[PEN-L:6245] GDP BYTE by Dean Baker 4/30/99

[Robert Naiman <naimanr@xxxxxxxxxxxx>]

GDP BYTE 4/30/99

BOOMING CONSUMPTION AGAIN LEADS GROWTH

The growth in consumption again outpaced income,
producing another quarter of very strong GDP
growth. The overall rate of GDP growth in the
first quarter was 4.5 percent. This is down from
the 6.0 percent rate in the previous quarter,
but still quite rapid for this stage in a
business cycle.

Consumption spending, measured in 1992 dollars,
grew at a 6.7 percent rate, and now stands 5.5
percent above its level a year ago. Consumption
continues to far outpace income growth. The
savings rate, which had already hit zero in the
previous quarter, fell to -0.5 percent in the
first quarter. Consumers are clearly both
spending based on their capital gains in the
stock market and adding to their debt burdens.
The debt burden measured as a share of
disposable income is already at a record level,
more than 5.0 percentage points above the
previous peak of 19.3 percent reached in 1990.
Also, many new cars are now leased rather than
purchased with loans. If these lease payments
were factored in, the implicit debt burden would
be at least two percentage points higher.

While investment is reported as growing at a
10.0 percent annual rate, most of this growth is
attributable to the rate of price decline that
the Bureau of Economic Analysis (BEA) reports
for computers. While investment in computers
fell at a 3.2 percent annual rate, in 1992
dollars it rose at a 26.7 percent annual rate.

Regardless of the accuracy of the BEA's measure
of computer prices, demand is only affected by
nominal expenditures. Measured as a share of
nominal GDP, investment has been falling
gradually since the second quarter of 1998. This
means that investment is lagging rather than
driving growth.

Residential housing boosted GDP growth by two-
thirds of a percentage point. Recent data on new
home sales suggest that the housing boom has
peaked. While housing expenditures may remain at
high levels, it is unlikely that they will
continue to add to growth in the rest of the
year.

Another surge in the trade deficit acted as a
major brake on growth. In 1992 dollars, the
deficit increased by $55.6 billion, knocking 2.4
percentage points off of GDP growth. Measured in
nominal dollars the impact was not as large, an
increase of $39.6 billion. The main reason for
the difference is that computers are
increasingly being imported. The BEA's measure
of computer prices causes the same dollar volume
of nominal imports to appear as a considerably
larger volume of imports in 1992 dollars.

Measured as a share of GDP, the investment
portions of GDP (investment plus net exports)
are actually lower than they were at the peak of
the last business cycle in 1989. Investment plus
net exports came to 8.77 percent of nominal GDP
in the first quarter, compared to 8.93 percent
in 1989. This means that the effort to stimulate
investment through deficit reduction has clearly
failed. The increase in public saving implied by
the movement from large budget deficits to
surpluses has been completely offset by a
decline in private saving. The consumption share
of GDP now stands at 68.65 percent, more than
2.5 percentage points above its 1989 level.

The heavy dependence of the expansion on
consumption points to the fragility of the
economy at this point in the business cycle. As
long as the stock market continues to rise,
consumption is likely to grow. But with price-
to-earnings ratios already at more than twice
their historic levels, it is not clear how much
longer it can keep rising. If price-to-earnings
ratios fell back to just 1.5 times their
historic levels, the resulting decline in
consumption would be enormous. The higher the
market goes, the larger the eventual correction.
The bubble has already grown so large that its
bursting will have a very serious negative
impact on the economy.

- Dean Baker

The Preamble Center's GDP Byte is published
quarterly upon release of the Bureau of Economic
Analysis' report on the Gross Domestic Product.
For more information or to subscribe by fax or
email contact the Preamble Center at 202 265-
3263 x274 or schwarzj@xxxxxxxxxxxx



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Robert Naiman <naimanr@xxxxxxxxxxxx>
Preamble Center
1737 21st NW
Washington, DC 20009
phone: 202-265-3263
fax:   202-265-3647
http://www.preamble.org/
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